A wise man once said, "All intelligent investing is value investing." When buying shares in a company, the ultimate goal is to uncover an asset selling for less than what you believe it to be worth. As I look across the field of ASX 200 stocks today, one recognisable business stands out from the crowd as a mispriced buying opportunity.
The share price of this 42-year-old company has been relatively unremarkable. In the last five years, shares have grown 34% versus the benchmark's 26% — an 8% outperformance but not quite an exceptional return at 6.8% per annum.
But, layer in the dividends, and suddenly, that 34% return expands to around 90% (18% per annum over five years). Now, that sounds a whole lot more appetising. Yet, the company trades on a price-to-earnings (P/E) ratio of approximately 10 times.
Fear has gripped this ASX 200 stock
You have probably heard of Harvey Norman Holdings Limited (ASX: HVN). A retailer of electronics, furniture, and other consumer goods, the company is a staple of shoppers in Australia and abroad.
The industry average P/E ratio is around 21 times earnings. Other retail rivals such as JB Hi-Fi Limited (ASX: JBH) and Kmart owner Wesfarmers Ltd (ASX: WES) are valued at a higher premium of 12 and 26 times earnings, respectively.
The market is evidently concerned about Harvey Norman's more drastic retraction in earnings recently. In FY2023, net profits after tax (NPAT) plunged 33.5% to $539.5 million. Meanwhile, JB Hi-Fi experienced a lesser 3.7% reduction, while Wesfarmers grew its bottom line by 4.8%.
Analysts forecast a further 38.8% earnings decline for Harvey Norman in FY24. As always, the market is already ahead of the curve and is presumably pricing this into today's share price.
Plenty of investors are running for the hills, away from Harvey Norman, dodging the danger of potential weakness ahead. However, I think people might be missing the forest from the trees here.
Borrowing the Macca's playbook
In my opinion, this ASX 200 stock is a fundamentally different business than JB Hi-Fi. Much like McDonald's Corp (NYSE: MCD) is "… not technically in the food business", as Harry J. Sonneborn once said — Harvey Norman is not completely in the retail business.
You might be surprised to learn that Harvey Norman holds a $4 billion property portfolio. It's the same approach as McDonald's — buy the property, lease it out, and charge a franchising fee for using the brand.
This way of doing business is highly profitable. For example, Harvey Norman's net margin is 19.4% versus JB Hi-Fi's 5.4%. Likewise, the Gerry Harvey-founded company gushes free cash flow from this model.
In the last financial year, Harvey Norman raked $492 million in free cash flow.
The upshot
Harvey Norman may experience a rough patch as interest rates bite. However, the business is backed by a large and valuable property portfolio, insulating the company's value to an extent.
Secondly, the franchisor is continuing to expand into multiple countries. In my opinion, this presents a runway for growth that the market is currently discrediting.
When factoring all this in, I believe the current fair value of this ASX 200 stock is a market capitalisation of $7 billion. Instead, the company is valued 25% less at $5.3 billion.
